Obama Doubles Down

Barack Obama did not actually predict trillion-dollar deficits indefinitely; more precisely, he said, “unless we take decisive action, even after our economy pulls out of its slide, trillion-dollar deficits will be a reality for years to come” (emphasis added). At the same time, the highly competent Congressional Budget Office projected a $1.2 trillion deficit for fiscal 2009 (year ending 9/30/09).

I was initially surprised by Obama’s forthrightness on the deficit question, but on reflection there are three good reasons for him to do it:

He wants to lower expectations by making the case that we have a serious deficit problem before taking office.

He wants to signal that he is aware of the deficit issue, to try to defuse the attacks he is going to get from fiscal conservatives regarding his stimulus plan.

He wants to use the current crisis – and the political opportunity it gives him, as a new and generally popular president with significant majorities in both houses – to tackle the long-term retirement savings problem.

If you parse the sentence, in saying “even after our economy pulls out of our slide,” Obama is saying that the long-term deficit problem would exist with or without the current crisis – and he is right. A $1.2 trillion deficit, caused by a steep fall in tax revenues, partially by the costs of various bailouts, and a little bit by two ongoing wars, is small compared to the Social Security and Medicare funding gaps ahead. In signaling that he will announce some kind of approach to entitlement spending by next month, Obama is implying that he wants to take on not just the short-term recession, but also the long-term deficit problem.

This is good for two reasons. First, someone has to face the problem. President Bush “tried” (not very hard) to do something about Social Security in 2005, although the general direction of his proposal, in shifting from a defined-benefit to a defined-contribution model, would have shifted risk from the government onto individuals.

Second, there are economic reasons why long-term sustainability should be addressed at the same time as short-term stimulus. Virtually everyone (even Martin Feldstein) favors a large, debt-financed government stimulus package. However, the more the government borrows, the more risk there is that lenders will worry about our ability to pay off the debt. While few people expect the U.S. to default, the more widespread fear is that we will print money (in a more sophisticated form, of course) to inflate away the debt. Because of those fears, large amounts of borrowing will drive up interest rates, especially as the economy recovers, both for the government (increasing our interest payments) and for the economy as a whole (undermining growth). The solution, if there is one, is to put forward a credible plan for dealing with the long-term retirement problem.

The risk, of course, is that Social Security and Medicare can be politically lethal, which is one reason President Bush backed off so fast. But I still think this is the right bet for Obama to make. Insofar as any solution is going to involve some pain (lower benefits, increased benefit age, higher taxes, increased control over health care), it is going to be easier to pass in a time of perceived collective crisis. And being willing to tackle the problem could also help gain support from fiscal conservatives for the stimulus that we need now.

Originally published at the Baseline Scenario and reproduced here with the author’s permission.

6 Responses to "Obama Doubles Down"

devils advocate January 9, 2009 at 9:56 am

accurate posting: USA has no choice but to gamblethe only question is: are we going to make a good bet or poor bet

villager January 9, 2009 at 1:43 pm

“The solution, if there is one, is to put forward a credible plan for dealing with the long-term retirement problem.” No, the solution is for Americans to show their creditors that they have the means and the intention to pay their debts. The bursting of bubbles signifies a change in economic paradigms. It is unclear what/how Americans will do to earn their future livelihood. None of the authorities or experts including all of the proponents who call for a stimulus have identified the path or strategy that lies ahead for economic survival. [This is the debate that should have occurred prior to the October election. Consequently, there is no reason now to have confidence in US leaders. US leaders, authorities and experts (the latter with a small number of exceptions) have been continuously late in their awareness of the crisis and its development. Because of this, the answer may not reside among this group of people. A process needs to be created that allows it to arise from within the population. That is what leaders and authorities need to create.]Without identifying the strategy of how America is going to earn a living, the call for a (huge) stimulus rings false. [Think of it – the US has already treated itself to 8 years of stimulus!] It likely sets up Americans and the rest of the world for an even bigger collapse.

black-cat-eat-the-swan January 10, 2009 at 3:01 am

i agree . the same way the ceo-s of public companies have incentive to have a short horizon and cash in the FAT BONUS and then who cares if hell breaks loose, same ideea with all this government spending and liabilities. of course the politicians have incentive to keep a few more jobs and benefits for 4-8 more years, even though the hell will break loose in the future.Q.E.D.